Edexcel A Level Accounting: Principles and Double Entry Bookkeeping — Revision Notes

Condensed for the final weeks. For the full explanation, use the Principles and Double Entry Bookkeeping study guide.

The accounting equation

ASSETS = CAPITAL + LIABILITIES

DEAD CLIC — Debit Expenses, Assets, Drawings; Credit Liabilities, Income, Capital.

Capital sits with liabilities because, under the business entity concept, the business is separate from its owner and the capital is owed back to them. Drawings reduce capital, not profit — they are not an expense.

Concepts

Concept	Meaning
Business entity	Owner and business are separate
Going concern	The business will continue for the foreseeable future
Accruals / matching	Record income and expenses when incurred, not when cash moves
Prudence	Do not overstate profit or assets
Consistency	Same treatment each period, so figures are comparable
Materiality	Immaterial items need not be treated strictly
Realisation	Revenue recognised when goods or services pass, not when paid

Accruals drives every year-end adjustment; prudence resolves most judgement calls. Where two treatments are defensible, choose the one that does not overstate profit.

Year-end adjustments — both effects, every time

Adjustment	Profit	Statement of financial position
Accrued expense	Reduces	Current liability
Prepaid expense	Increases	Current asset
Accrued income	Increases	Current asset
Prepaid income	Reduces	Current liability
Depreciation	Reduces	Reduces carrying amount
Irrecoverable debt	Reduces	Reduces receivables
Increase in allowance for irrecoverable debts	Reduces	Reduces receivables

“State the effect” wants both. Giving one is worth half.

Depreciation allocates cost over useful life to match cost against the revenue it helps earn. It is not a cash fund for replacement and not a measure of the fall in market value — both misconceptions are examined.

• Straight line: (cost − residual value) ÷ useful life. Equal charge; suits evenly used assets.
• Reducing balance: fixed percentage of carrying amount. Higher early charge; suits assets losing most value at first, such as vehicles.

Control accounts

The trade receivables ledger control account and trade payables ledger control account summarise the personal ledgers and are prepared from the books of prime entry.

Their purpose is threefold: to check the arithmetical accuracy of the personal ledgers, to locate errors within a smaller area, and to provide totals quickly for the financial statements without adding up every account.

A control account also acts as an internal control, because it is prepared by someone other than the person keeping the personal ledgers — so a discrepancy signals error or fraud.

Common entries: the trade receivables ledger control account is debited with credit sales and dishonoured cheques, and credited with receipts, discounts allowed, returns inwards, irrecoverable debts and contra entries.

Bank reconciliation

Supporting background, outside the assessed content: bank reconciliation is not a content statement of either unit of this specification. It is included here because it consolidates cash book and error-checking skills.

The cash book and the bank statement differ because of:

• Unpresented cheques — written and recorded but not yet cleared.
• Outstanding lodgements — paid in but not yet credited.
• Direct debits, standing orders, bank charges and interest — known to the bank first.
• Errors by either party.

Method: update the cash book for items the bank knew first, then reconcile the adjusted cash book balance to the bank statement using timing differences. Doing it in the wrong order is the standard error.

The purpose is to verify the cash book, detect errors and fraud, and identify unrecorded transactions.

Errors and the trial balance

A balanced trial balance proves nothing. Six error types leave it balanced: omission, commission (wrong account of the right type), principle (wrong type of account), original entry, complete reversal, and compensating.

Errors that unbalance it go to a suspense account until corrected.

Ratios

gross profit margin = gross profit / revenue x 100
ROCE                = profit before interest / capital employed x 100
current ratio       = current assets / current liabilities
acid test           = (current assets - inventory) / current liabilities
receivables days    = receivables / credit sales x 365

A ratio alone means nothing. Every analysis needs a comparison — prior year, competitor, or industry — and a reason for the change. And note that a high current ratio is not automatically good: it can signal excess inventory, slow-collecting receivables, or idle cash.

Exam traps

• Giving one effect of an adjustment instead of two.
• Saying depreciation is a fund for replacement.
• Treating drawings as an expense.
• Reconciling before updating the cash book.
• Confusing errors of commission and principle.
• Quoting ratios without comparison or interpretation.

Self-test

1. Why does capital appear with liabilities?
2. Give both effects of a prepaid expense.
3. What are the three purposes of a control account?
4. (Supporting background) In what order should a bank reconciliation be done, and why?
5. Why might a high current ratio be a warning sign?

Answers: 1. Under the business entity concept the business is separate from its owner, so capital is an amount the business owes back to the owner. 2. It increases profit for the year and appears as a current asset in the statement of financial position. 3. To check the arithmetical accuracy of the personal ledgers, to localise errors, and to provide quick totals for the financial statements — with the added benefit of acting as an internal control when prepared independently. 4. Update the cash book first for items the bank knew of first (charges, interest, direct debits), then reconcile the adjusted cash book to the statement using timing differences; reversing the order produces a figure that reconciles to nothing meaningful. 5. It may indicate excess inventory, receivables being collected too slowly, or cash sitting idle rather than being invested.